Backgrounder 2008 Cat Fund Reality

10/22/2008

FOR IMMEDIATE RELEASE    Date:  October 21, 2008          (Revised on Oct. 22) Contact:  Sam Miller (850) 386-6668 x223, This e-mail address is being protected from spam bots, you need JavaScript enabled to view it               Gary Landry (850) 386-6668 x 234, This e-mail address is being protected from spam bots, you need JavaScript enabled to view it Florida Insurance Council Issues Backgrounder on Cat Fund’s inability to meet its financial obligations TALLAHASSEE, FL - The Florida Insurance Council today is releasing a special Backgrounder on the Florida Hurricane Catastrophe Fund’s financial status. Last week, the Advisory Council to the Cat Fund acknowledged the fund would face a $10 billion to $15 billion shortfall if called upon by a major hurricane to generate its full capacity of about $28 billion. This Backgrounder outlines the Advisory Council’s acknowledgement and also details how many warned of the shortfall from the beginning of the Cat Fund’s extraordinary expansion during the special legislative session of January 2007. We also link to a White Paper produced by the Florida Insurance Council earlier this year.  Both this Backgrounder and the White Paper are available in PDF format in the Insurance Media section of our website:  www.flains.org. - 30 - Here is the text of the Backgrounder: Cat Fund unable to meet full financial obligations      The Advisory Council to the Florida Hurricane Catastrophe Fund (FHCF) confirmed on October 14, 2008 what many insurance industry experts have expressed concern over for nearly two years - that the Cat Fund can not live up to the huge financial obligations established by the Florida Legislature when they expanded the program to an unprecedented $28 billion during a January 2007 Special Legislative Session. The Cat Fund’s reinsurance program had been about $16 billion, following about a $5 billion increase several years earlier.   Expansion of the Cat Fund to such an unprecedented level was the Legislature’s response to market conditions that were driving the costs of reinsurance higher and higher after the 2004 and 2005 hurricane seasons. The idea was to create a lower cost reinsurance program for both private insurers and the government-run insurer, Citizens Property Insurance Corporation. Insurers would purchase coverage from the Cat Fund at costs much cheaper than those on the worldwide reinsurance market, providing a basis for insurers to rollback residential insurance rates. The problem, many warned, is that the reinsurance insurers were mandated to purchase from the Cat Fund was only minimally supported by cash reserves. Instead, the state promised it could go into the private bond market and borrow unprecedented amounts of cash if and when the funds were needed. It took less than six months from the time the plan was put in place to the first signs that this strategy was in jeopardy. In the fall of 2007, the sub-prime mortgage crisis was unraveling and Chief Financial Officer Alex Sink warned that the mortgage crisis could hamper the state’s ability to bond at the necessary and promised levels. Ms. Sink urged lawmakers to scale back the Cat Fund to $24 billion.  That would have led to an increase in premiums for some consumers, unacceptable to some legislators, and the plan was not approved. Market conditions continued to erode to the point that financial advisors now say that the Cat Fund could have a potential bonding shortfall of $10 billion to $15 billion over the next 12 months. Reality hits home The Florida Hurricane Catastrophe Fund Advisory Council now acknowledges the fund’s real claims-paying capacity is only about half of the $28 billion. That shocking announcement should send shivers down the backsides of  Florida’s political leaders and consumers. It is even more terrifying when one considers  how close Hurricane Ike came to hitting Homestead and Miami as a category 3 or 4 storm last month, which was the National Hurricane Center forecast track for a couple of days. Emergency management officials in Dade, Broward and Palm Beach counties almost evacuated millions of people from its pending path. They were only a day or so away from pulling the trigger on evacuations. The Florida Keys did face mandatory evacuation of residents as well as tourists. Ike turned to the west, into the Florida Strait and eventually blasted Galveston and Houston, Texas, but during a critical period, National Hurricane Center officials were not saying if Ike would strike Florida, but when and where. Had Ike struck Homestead and Miami, homeowners and business owners almost certainly would now be experiencing delays in having their claims paid. The Cat Fund probably would have run out of money temporarily; as would have Citizens, which is highly dependent on this program and the purchaser of about 40 percent of total Cat Fund capacity. Private insurers would have been hurt as well, especially the rapidly growing domestic insurance industry, which now accounts for 44 percent of the residential market. As the Advisory Council concluded in its report, “Given the state of the financial markets and the FHCF’s senior managing underwriters’ estimate of current borrowing capacity, the FHCF has an estimated loss reimbursement capacity of $11.786 billion over the next six months and $13.286 billion over the next 12 months.” This means the Cat Fund could not deliver the $28 billion in maximum capacity it sold to Citizens and private insurers for the 2008 hurricane season, including the $12 billion optional upper layer or “TICL” coverage that was the basis for state-mandated rate rollbacks averaging 14 or 15 percent. It also means the Cat Fund could not finance all of its $16.53 billion basic, reinsurance program, which every residential insurance company must join under state law. To illustrate the financial crisis facing our Cat Fund we only need recall the devastation caused by Hurricane Wilma, a Category 1 storm that struck Dade and Broward in 2005 and produced $11 billion in total insured property losses.  That storm will require a projected $5.2 billion in Cat Fund payouts; $4.6 billion has been paid so far. How much higher would the payout have been if a category 3 or 4 storm had struck Homestead and Miami? Ike might not have triggered TICL or perhaps would have activated only a portion of it. It almost certainly would have stretched the Cat Fund’s basic program and could have left a shortfall of several billion dollars. Legislature must act before 2009 hurricane season Florida may avoid a major hurricane landfall this year. Less than six weeks remain in the 2008 hurricane season and conditions supporting a major hurricane are disappearing. There probably is nothing we can do to stabilize the fund at this late date anyway.  Policy makers must act, however, before the 2009 hurricane season. 2008 has been one of the most active seasons in years as predicted, with Florida spared except for Tropical Storm Fay, a significant non-hurricane event. Next year also will be very active and no one realistically expects Florida to go much longer than three straight years without a major hurricane. Members of the Florida House and Senate must determine what is realistic for the Cat Fund and adjust the program accordingly. How much money can the Cat Fund be expected to timely deliver if the current national economic crisis continues into the 2009 hurricane season or if the bond markets return, but there is a new meltdown someday? A more realistic level could be $16.5 billion, the Cat Fund’s capacity before the January 2007 special session, or something less than that, $11 billion to $12 billion. Florida Insurance Council member companies will be deliberating on what they believe is real and truly deliverable by the Cat Fund and the State of Florida following a major hurricane and we will submit our recommendations to the Legislature in the coming months. Once the Cat Fund has been restored to a state of stability and soundness, private carriers - and Citizens as well - must go out into the private reinsurance market and purchase additional catastrophe claims protection. Coverage available from the Cat Fund will not be sufficient by itself to handle all of the risk. Insurers must be allowed to include their additional reinsurance costs in the rate base. What this scenario means for insurance rates is not clear – and probably varies from insurer to insurer. But it will produce catastrophe reinsurance we can count on. Unfortunately, some of the Cat Fund reinsurance – granted, mainly the high layers that won’t be triggered until a nightmare hurricane – has become worthless paper.   Additional Research Information In early 2008, the Florida Insurance Council produced a White Paper on the claims-paying capacity of the Cat Fund.  Some of that data was used in this Backgrounder.  Additionally, data from the Florida Hurricane Catastrophe Fund Estimated Loss Reimbursement Capacity report, dated October 2008, is used in this Backgrounder.  Both are available at the following website addresses: http://www.flains.org/content/view/1573/51/ http://www.flains.org/content/view/2408/2/ The Florida Insurance Council is Florida's largest not-for-profit trade association representing 64 insurers groups consisting of 200 companies which write over $25 billion a year in premium volume and provide all lines of coverage.

 

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